How Close to the Financial Brink Are You?

Financial brink

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Credit Sesame reports on household debt and signs of being on the financial brink.

A recent report by the Federal Reserve Bank of New York showed that household debt reached an all-time high in the third quarter of 2022. What’s even more disturbing is the pace at which debt is growing.

The numbers suggest that many American households are relying on debt to deal with this year’s high inflation. The problem is borrowing is only a temporary solution. It can make the situation worse in the long run.

Too much borrowing can push you over the financial brink. That’s the point at which you can no longer keep up with your bills. The consequences can include excessive borrowing costs, long-term damage to your credit or even bankruptcy.

How have this year’s conditions pushed many families close to the financial brink? What are the signs you are getting close to the finance brink? How can you bring your finances back to safety?

Rising debt and rising interest rates are a dangerous combination

There are a few things that have been working against consumers this year.

For example, inflation. The speed at which prices have risen has caught many people short. To a large extent, they’ve turned to their credit cards to make up the gap.

The New York Fed’s Quarterly Report on Household Debt and Credit showed that credit card debt rose by 15% over the past year. That’s the fastest pace in over 20 years.

Unfortunately, this is exactly the wrong time to be taking on additional credit card debt. Federal Reserve data shows the average interest rate charged on credit card debt has risen by nearly 2% so far this year. At 18.43%, that average rate is at the highest level ever in a data series that goes back to late 1994.

With debt and interest rates rising at the same time, consumers are facing fast-rising payments on their debt. Keeping up with those payments is becoming a bigger challenge every month.

Things could always get worse

Another reason this is a bad time to take on debt is that the job market has been extraordinarily strong. The unemployment rate has been at or near its 50-year low. There are roughly two job openings for every person seeking work.

Ideally, a strong job market would be a time for households to build up savings. Not only are people working, but bargaining power for wages is relatively strong. This year, many families are finding themselves building debt instead of savings.

If the economy slows down, the job market is unlikely to stay so strong. If people start losing their jobs, making today’s elevated debt levels even harder to cope with.

6 signs you are close to the financial brink

The trick is not to get too close to the financial brink in case the economy worsens or you have some kind of personal financial setback. Here are six signs you might be too close to the brink:

  1. You have under three months’ worth of expenses saved. An emergency fund can give you a safety net to help you survive a financial setback. If you don’t have enough savings to meet an emergency expense or see you through a period of joblessness, there is little margin for error.
  2. Your credit card balances have been rising month after month. This is a sign your budget has become dependent on debt. This is not sustainable. Eventually, you will reach your borrowing limit. Meanwhile, the growing debt expense each month just leaves you less money to spend the following month.
  3. Your credit utilization is above 50%. If you’re using more than half the limit on your credit cards, your ability to borrow further may be getting dangerously low. Also, a high credit utilization ratio is bad for your credit score.
  4. You’ve been late with more than one payment this year. One missed payment may just be a mistake. More than that starts to look like a risky pattern.
  5. You find yourself having to choose which bills to pay instead of paying them all. Playing musical chairs with your bills to see which get paid and which get left out is a dire situation. It’s a sign you have insufficient funds for your lifestyle.
  6. Your credit score has dropped by more than 30 points this year. Credit scores fluctuate all the time, so you shouldn’t read too much into small changes up or down. However, if you’ve lost more than 30 points it could be a sign that your credit is deteriorating significantly. If you fall into a lower credit tier, your borrowing costs may rise.

Pulling back from the financial brink

If you find yourself uncomfortably close to the financial brink, consider these steps for moving your finances back towards safety:

  1. Create a budget that eliminates borrowing increases. If your credit card balance is rising steadily, it’s a sign your spending is too dependent on borrowing. Go back to basics and come up with a budget for less than your take-home pay.
  2. Check your credit report for errors or unresolved problems. Clearing up issues on your credit report could lower your borrowing costs by improving your credit score.
  3. Work towards getting your credit utilization below 30%. This both limits your borrowing costs and helps your credit score.
  4. Look for opportunities to refinance high-interest debt. With credit card rates up this year, it’s a good time to look for cheaper alternatives. Compare credit card rates to see if you can find one with lower costs – but watch out for fees. A zero-percent balance transfer card may save you money, especially if you can pay off the balance before the zero-percent period expires. Refinancing your credit card debt with a loan is another possibility for lowering your interest rate.
  5. Consider a side hustle to earn extra income. If you can’t bring spending down to within your earnings, the only other solution may be to find a way to earn more money.

If this year’s inflation has pushed you too close to the financial brink, you’re not alone. However, now it’s time to push back and get yourself on safer financial ground.

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Disclaimer: The article and information provided here is for informational purposes only and is not intended as a substitute for professional advice.

Richard Barrington
Financial analyst for Credit Sesame, Richard Barrington earned his Chartered Financial Analyst designation and worked for over thirty years in the financial industry. He graduated from St. John Fisher College and joined Manning & Napier Advisors. He worked his way up to become head of marketing and client service, an owner of the firm and a member of its governing executive committee. He left the investment business in 2006 to become a financial analyst and commentator with a focus on the impact of the economy on personal finances. In that role he has appeared on Fox Business News and NPR, and has been quoted by the Wall Street Journal, the New York Times, USA Today, CNBC and many other publications.

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